How Different Roth IRA Withdrawals Work

Why Some Roth IRA Withdrawals Can Be Subject to Taxes

A simple retirement saving formula.
A simple retirement saving formula. David Franklin/Getty Images

Aside from employer-sponsored retirement plans, individual retirement accounts (IRAs) are perhaps one of the best retirement savings tools available. IRAs provide tax-deferred growth on invested assets among other benefits depending on the type of IRA. Traditional IRAs offer tax deductions on contributions as well as the tax-deferred growth that allows these accounts to take full advantage of compounding interest.

Roth IRAs, on the other hand, do not offer tax deductions on contributions as contributions to the account must be after-tax. But in exchange, Roth IRA account owners are not only offered the same tax-deferred growth on their assets, but also tax-free distributions and withdrawals. Here's how Roth IRA withdrawals work.

Tax-Free Qualified Distribution Roth IRA Withdrawals

Provided you have reached at least the age of 59½ and have had your Roth IRA account open for at least five years, all of your Roth IRA withdrawal is tax-free. In fact, it will be considered a qualified distribution. Though this combination of criteria are perhaps the most common for taking a qualified distribution from a Roth IRA, there are several other scenarios in which withdrawals are considered qualified and, therefore, are tax-free:

  • If you are disabled
  • If the withdrawal is paid out to your beneficiary or your estate after your death
  • If the withdrawal meets the IRS "first home" requirements

Such tax-free income in retirement is among the biggest benefits of a Roth IRA, but unlike traditional IRAs, you need not wait until retirement to withdraw your assets penalty and tax-free.

Tax-Free Return of Basis Roth IRA Withdrawals

Since no Roth IRA contribution is ever tax deductible like a traditional IRA, most Roth IRA withdrawals will not be taxed.

There is no tax due on any Roth IRA withdrawal if the total amount you withdraw is less than the amount you have previously contributed no matter your age. For example, if over several years your annual contributions total $20,000 and you subsequently withdraw $5,000, none of your withdrawal will be taxable as it is considered a return of your original contribution. In tax jargon, a withdrawal of previous contributions is considered a return of basis.

That said, there are a few scenarios in which you may be assessed an early distribution tax as a penalty on a Roth IRA withdrawal.

Penalized Roth IRA Withdrawals

Using the same example scenario as above, if you were to withdraw more than the $20,000 you had already contributed to your Roth IRA, meaning that you were also withdrawing earnings prior to reaching age 59½, part of your withdrawal would be subject to taxes and a 10% tax for early distributions. The same would be said for any Roth IRA withdrawals above your basis (contributions) within the first five years of contributing to the account. This rule is colloquially known as the five-year rule. The Roth five-year rule is not as straightforward as you might think, since satisfying the five-year rule can actually take less than five years, according to the IRS' definition.

To make matters more complicated, Roth IRA conversion assets follow their own separate timeline for the five-year rule.

If Roth IRA funds are added via a Roth IRA conversion, these funds specifically must meet the five-year rule themselves. As such, if you convert a Roth IRA and then take some of those converted monies the next year, your withdrawal would be taxable.

The 10% Early Distribution Penalty

In addition to the regular income tax, a 10% early distribution penalty is assessed on distributions that are made if the account holder has not yet reached age 59½. However, the 10% early distribution penalty will only be assessed on withdrawals that are taxable. As such, any withdrawals that are returns of basis aren’t subject to the early distribution penalty, even if the taxpayer is under 59½.

If you have questions about traditional IRA withdrawals, be sure to check out this article about regular IRA withdrawals.